Office REITs: Show Me The Jobs

Transcription

1 March 17, :01 AM GMT Real Estate Investment Trusts Office REITs: Show Me The Jobs We are incrementally positive on Office REITs given early signs of an acceleration in office job growth. But given we are late in the CRE cycle, our Base Case still assumes a measured pace. We prefer select CBD over suburban and reiterate our OW on SLG and HPP. MORGAN STANLEY & CO. LLC Vikram Malhotra EQUITY ANALYST Vikram.Malhotra@morganstanley.com Nicholas Stelzner, CFA RESEARCH ASSOCIATE Nick.Stelzner@morganstanley.com Sumit Sharma EQUITY ANALYST Sumit.Sharma@morganstanley.com Real Estate Investment Trusts North America IndustryView Cautious Incrementally positive near term on Office REITs given early signs of job growth. Office REITs have outperformed YTD on renewed optimism that new policy initiatives will lead to better office using job growth. Recent data in major markets, such as SF and NYC job growth, has come in better than expectations at 2.8% and 1.7% respectively. In addition, recent surveys by employment firms Manpower and the NFIB (small business) optimism index suggest a pick up in hiring over the near-term. Rent growth in major markets remains steady and foreign buyer interest robust, supporting stock / asset valuations. Our Base Case still assumes measured job creation; looking for signs of further improvement. The office sector has a strong correlation to forward office using job growth in NYC and stocks are pricing in ~1.75% growth during the next 12 months. While continued optimism bodes well for multiples, we believe job growth in certain end markets (and leasing) could be more measured. For example, in financials, leasing may not pick up from current levels despite the recent strong performance of financial stocks (see History Doesn't Always Repeat). Our Base Case assumes growth in line with the 10yr average of ~1.5%, though, signs of further improvement could get us more positive longer term. We favor REITs with earnings in the bag and upside potential from n/t catalysts. In this improving but still uncertain environment, we like REITs with (1) embedded NOI growth and largely pre-leased developments, (2) manageable expirations with high potential mark-to-market buffer, (3) strong track records of value creation and (4) near-term catalysts. In general we see: Opportunities for select rotation into CBD over suburban. During the last 3 and 6 months Office REITs exposed to low barrier / suburban markets have outperformed those exposed to high barrier / CBD locations, partly due to relatively better fundamentals in low barrier markets and also higher dividend yields. We believe this relative fundamental strength is priced in today and see opportunities for rotation into select CBD names. We reiterate our OW on SLG and HPP and are incrementally more positive near-term on BXP (EW). We are monitoring several trends including (1) if the recent positivity around financials (banks, asset managers etc.) will translate into meaningful job growth and leasing volumes, (2) subleasing activity in key markets, and (3) leasing pace at new development in SF and NY. See pg 6 for updates to estimates and price targets for BXP, CXP, GOV, HIW, HPP, PGRE, SLG and VNO. Exhibit 1: Office multiples are generally driven by future expectations of office using job growth Office Implied Cap Rates vs NYC Office Using Job Growth Office Sector Implied Cap Rate NYC Office Using Job Growth (RHS) 7.5% 4.0% 7.0% 3.5% 3.0% 6.5% 2.5% 6.0% 2.0% 5.5% 1.5% 1.0% 5.0% 0.5% 4.5% 0.0% 1Q11 3Q11 1Q12 3Q12 1Q13 3Q13 1Q14 Source: CBRE, Company Data, Morgan Stanley Research; Note: Office sector 3Q14 1Q15 3Q15 implied cap rate is a weighted average based on market cap Morgan Stanley does and seeks to do business with companies covered in Morgan Stanley Research. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of Morgan Stanley Research. Investors should consider Morgan Stanley Research as only a single factor in making their investment decision. For analyst certification and other important disclosures, refer to the Disclosure Section, located at the end of this report. 1Q16 3Q16 1Q17E 1

2 Thoughts on Office We are tactically more positive on Office REITs over the near term due to better sentiment and signs of new job growth. Office REITs have been relative outperformers YTD, beating the RMZ by over 200bps, on renewed optimism of office using job growth. 2H16 statistics moderated but 2017 YTD figures have shown some improvement. Recent surveys by employment firms Manpower and the NFIB (small business) optimism index suggest a pick up in hiring in 1Q17. Early signs suggest this may be translating to slightly better job growth YTD following a strong US February jobs print last week and better NYC office using job growth in Jan (+1.7%) vs December (+0.7%). This is different from 2016 during which concerns continued to grow throughout the year, especially for New York focused names as well as San Francisco to a lesser extent. While sentiment has improved, we note that CRE is in the later stages of the cycle and believe downside risks remain if new policy initiatives are pushed out, do not come to fruition or do not meet expectations. Office transaction volumes and cap rates should remain steady over the next twelve months. Office transaction volumes fell 43% y/y to $8.3b in January, according to Real Capital Analytics (RCA). However, the drop off was due to a high comp in the prior year as RCA noted that deal volumes are usually ~$7b on average in Jan. Foreign buyer interest remained robust at 22% of all office transaction volume in 2016 which was up from 20% in We think foreign investors will continue to invest in the US as they target high quality assets in core markets, supporting steady volumes in Average US office cap rates fell to 6.5% in January which is slightly above the low of 6.4% in 2016 but well below the 7.5% avg since 2001, according to RCA. We expect cap rates to remain flat over the next 12 months as investors desire for yield and safety is offset by rising rates and softening fundamentals. Office using job growth could support valuations: Office multiples are generally driven by expectations of future market level office using job growth (and to some extent rent growth), especially in the later part of the cycle where valuation is more correlated to these factors and less to changes in asset values (though arguably all three are related). Valuations are close to the long-term average with office trading at an average 5.8% implied cap rate vs the 5 year average of 5.9%. However, office REITs are trading at a ~20bps premium relative to REITs broadly which is tighter than the historical 3bp discount. This is likely due to renewed optimism that new policy initiatives will lead to stronger office using job growth in Nationwide Office job growth is expected to be 2% in 2017 versus 2.2% in 2016, according to CBRE. Additionally, NYC office job growth, which has an r-squared of 65% with the Office sector multiple is expected to grow ~1% in 2017, in line with levels seen in 4Q16. Today the market is pricing in NYC job growth in the ~1.75% range which is in line with January's print but above industry expectations. Though we are tactically more positive on early signs of improvement, we are not calling for a re-acceleration and our Base Case is that implied cap rates (multiples) remain relatively stable in

3 Exhibit 2: NY office job growth expected to be steady in 2017 but there have been early signs of improvement Exhibit 3: Which is supportive of multiples given strong correlation 6.0% Office Implied Cap vs NY Office Job Growth (N4Q) 4.0% 2.0% 0.0% -2.0% -4.0% -6.0% -8.0% NY Office Using Job Growth (Y/Y) 3Q17 1Q17 3Q16 1Q16 3Q15 1Q15 3Q14 1Q14 3Q13 1Q13 3Q12 1Q12 3Q11 1Q11 3Q10 1Q10 3Q09 1Q09 3Q08 1Q08 3Q07 1Q07 4.0% 2.0% -4.0% -6.0% -8.0% y = x R² = % 0.0% 2.0% 4.0% 6.0% 8.0% 10.0% 12.0% -2.0% Source: CBRE, Morgan Stanley Research Source: CBRE, Morgan Stanley Research Rotate into select CBD from suburban. We prefer select CBD office REITs over suburban names as they should outperform on renewed market optimism and early signs of rising job growth. During the last 3 and 6 month periods, Office REITs exposed to low barrier / suburban markets (examples include Atlanta, Nashville, Orlando, Denver) have outperformed those exposed to high barrier / CBD locations (New York, Boston, San Francisco) by 180bps and 320bps respectively. We think this is partly explained by the relatively faster office job and rent growth in low barrier markets during 2016 and also higher dividend yields. However, relatively better fundamentals seem priced in with suburban office REITs trading at an implied cap rate that is at a 20bp premium to their 5 yr avg while CBD focused names trade at a 40bp discount. How to play? HPP and SLG. On the West Coast, HPP looks attractive on several valuation metrics relative to peers and we see several catalysts for shares to move higher. See our recent note here for more details on our bullish view. On the East Coast, SLG looks most attractive. NYC office using job growth figures for January of 1.7% vs 0.7% in Dec suggest optimism is translating to new jobs which bodes well for SLG, a premier NYC office REIT. We reiterate our OW on SLG and continue to see upside for SLG given potential leasing announcements around One Vanderbilt that will be a catalysts for the stock. Exhibit 4: Job growth in suburban/low barrier markets has been higher than in major markets in % 3.0% 2.5% 2.0% 1.5% 1.0% 1Q14 Office Using Job Growth (Y/Y) - CBD vs Suburban 2Q14 3Q14 4Q14 1Q15 2Q15 Source: CBRE, Morgan Stanley Research 3Q15 Low Barrier / Suburban 4Q15 1Q16 2Q16 High Barrier / CBD 3Q16 4Q16 Exhibit 5: We think the fundamental strength in these markets is priced in with low barrier REITs trading at a premium Implied Cap Rates: Low vs High Barrier REITs 5-yr Avg Current 8% 7% 6% 5% 4% 3% 2% 1% 0% 5.4% 5.8% 7.4% 7.2% 2.0% "Higher Barrier" Office "Low Barrier" Office Spread Source: Company Data, Thomson, Morgan Stanley Research 1.4% We like earnings in the bag rather than in the bush. CRE is later in the cycle given peaking fundamentals but we are tactically more positive near term on revived optimism and early signs of improving job growth. Defensive REITs with earnings in the bag (i.e., embedded earnings growth) through signed by not yet commenced leases and largely pre-leased development pipelines should outperform in this environment. Though these defensive characteristics are important, we also think office REITs need to have strong 3

4 near term catalysts ahead such as lease up opportunities and development pipeline deliveries in order to outperform if new policy initiatives translate to further job growth. How to play? BXP. We're incrementally positive on EW BXP given its embedded NOI growth through leases signed but not yet commenced, their large development pipeline that is over 50% pre-leased and diversified portfolio in strong coastal markets. We see BXP as an all weather name that should exhibit strong NOI growth in We bake in 4%/6% SS-cash NOI growth in '17/'18. Risks we're monitoring: NYC office using job growth figures were strong in Januaury for financial services and legal as they inflected positive for the first time in 7 and 10 months respectively. While we acknowledge there are early signs of improvement, we caution that financial leasing may not pick up from current levels despite the recent strong performance of financial stocks (see History Doesn't Always Repeat). Subleasing activity in key markets. Leasing pace at new development in SF and NY. 4

5 Positioning and Estimate Changes Office Positioning Reiterate OW SLG; SLG's core portfolio is well positioned given the forward leasing they have undertaken over the past 2 years and high current occupancy of 97.1%. We continue to see upside for SLG given potentially more near term catalysts from leasing announcements around One Vanderbilt. Reiterate OW on HPP with catalysts ahead. While fundamentals moderated in 2016, we see signs of acceleration in several West Coast markets. The LA and Seattle regions in particular remain strong and demand in SF appears steady. HPP looks attractive on several valuation metrics relative to peers and we see several catalysts for shares to move higher. See our recent note here that recaps our meetings with mgmt. Incrementally positive on BXP near term but remain EW. Given our cautiously optimistic view, we like BXP's defensive characteristics including embedded NOI growth through signed leases not yet commenced, a large over 50% pre-leased development pipeline delivering in and a diversified portfolio across core coastal markets. BXP has lower relative expirations at ~9% of their total portfolio over the next two years with expirations almost evenly distributed across their 5 core markets. We see potential upside as BXP leases up vacancies over the next few years. BXP's strong operating track record positions them well to back fill vacancies but their 200k sq ft of vacant space with rental rates over $100 PSF in Manhattan could be challenging to fill. PGRE's lease up potential suggests upside to NOI but we remain EW. Lease up opportunity should add upside to NOI but we think most of the leasing activity will be 2H17 skewed and see more risk to the downside if there are no new announcements in the near term. Remain EW on CXP. CXP's transformation has improved their outlook. They now have $ m in cash that they can use to fund future transactions and drive external growth. However, we remain on the sidelines given a large lease up portfolio and a mixed acquisition track record. Remain EW on HIW as better market fundamentals and embedded earnings growth are priced in. HIW screens relatively expensive at an 6.4% implied cap rate vs 6.9% historically. We see this as fair given HIW's markets are expected to exhibit better job growth (2.4% vs 1.4% for our coverage) and rent growth (1.1% vs 0.3% for our coverage) in 2017 while HIW has a large development pipeline that is ~70% pre-leased and should add 1%/6% of FFO in '17/18. We remain EW given higher relative expirations over the next two years (20%) and incremental vacancies from known move outs in including 206k SF in Nashville from HCA, 160k SF in Richmond, 175k space in Raleigh and 130k SF in Atlanta. Reiterate Underweight on GOV given relatively rich valuation (implied cap rate of ~7.5% versus LT average of 7.9%). ~30% of GOV's portfolio is expiring over the next three years 5

6 and we see risk to renewal and mark-to-market given the new administrations focus on limiting hiring and spending in several governmental agencies. We see ss-noi growth steady but below peers and modest external growth in Leverage is higher relative to peers at ~50% debt to cap. Price Target and Estimate Changes Exhibit 6: PT Changes Base NY Office Job Growth of 1.4% Implies Office Cap rate of 6.9% Implied Cap Rate Spread to Sector Base Case PT Upside/ Change Current Target LT Avg Current Target 5-yr Avg Old New Downside New Vs Old Office Sector SA 6.6% 6.9% NA NA NA SLG 5.0% 5.1% 4.9% -1.57% -1.80% -1.61% $120 $120 10% 0% PGRE 5.3% 5.1% 4.8% -1.29% -1.80% -2.04% $17.50 $17.5 5% 0% BXP 5.1% 5.2% 5.1% -1.45% -1.70% -1.49% $135 $142 7% 5% VNO 5.5% 5.6% 4.7% -1.04% -1.30% -0.96% $109 $111 6% 2% CXP 6.2% 5.9% 7.0% -0.36% -1.00% 0.49% $23 $23 4% 0% HIW 6.5% 6.5% 6.7% -0.04% -0.40% 0.28% $51 $52 5% 2% HPP 5.4% 5.2% 5.4% -1.14% -1.70% -1.18% $39 $39 13% 0% GOV 7.5% 8.0% 7.6% 0.90% 1.10% 1.18% $16 $17-15% 6% Source: Company Data, Thomson, Morgan Stanley Research Estimates Exhibit 7: Office Risk Reward 60% Overweight Equal-weight Underweight 40% 20% 13% 10% 7% 6% 5% 5% 4% 0% Bull Base (20%) (40%) (15%) HPP SLG BXP VNO PGRE HIW CXP GOV Bear Source: Company Data, Morgan Stanley Research Exhibit 8: FFO Per Share Changes FFF Per Share Old vs. New Old New Change Old New Change 2017E 2017E $ % 2018E 2018E $ % SLG $6.46 $6.46 ($0.01) -0.1% $7.16 $7.04 ($0.12) -1.7% PGRE $0.92 $0.85 ($0.07) -7.5% $1.13 $0.99 ($0.14) -12.3% BXP $6.21 $6.20 ($0.01) -0.2% $6.77 $6.62 ($0.15) -2.2% VNO $5.43 $5.42 ($0.01) -0.2% $5.84 $5.63 ($0.20) -3.5% CXP $1.28 $1.18 ($0.09) -7.3% $1.57 $1.56 ($0.01) -0.5% HIW $3.42 $3.34 ($0.08) -2.3% $3.72 $3.58 ($0.14) -3.8% HPP $1.94 $1.96 $ % $2.02 $2.05 $ % GOV $2.19 $2.29 $ % $2.12 $2.22 $ % Avg ($0.02) -1.5% ($0.08) -2.2% Median ($0.01) -0.2% ($0.13) -1.9% Source: Company Data, Morgan Stanley Research 6

7 Valuation and Risks Boston Properties (BXP, Equal-Weight; PT $142): Our $142 price target is based on our Base Case view that the Office cap rates hold flat to expand slightly for high-quality class A assets in major markets such as San Francisco and NYC, a large portion of BXP's exposure. We expect a ~170bps spread between BXP's implied cap rate and the Office sector which is about in-line with the long term spread. We apply a 5.2% cap rate to our 4Q17e 1-year forward NOI estimate to arrive at our price target. Risks to our price target include: 1) DC office leasing has lagged and carries risk of further tenant space cuts; 2) Development pipeline drives NOI growth but also adds increased lease-up risk; 3) Fewer opportunities to create value through new acquisitions as cap rates have compressed; 4) Any drop off in private market bids that causes cap rates to climb; and 5)Rising interest rates and/or tighter financial conditions. Columbia Property Trust (CXP, Equal-Weight; PT $23): Our $23 price target for CXP is based on a target cap rate of 5.9%, which compares to the stock's current implied cap rate of 6.4% and assumes that CXP's cap rates should trade closer to urban market focused peers in the mid to low 5% range, reflecting the improvement in high quality market exposure after recent asset sales in tier 2 markets. Risks to our price target include 1) lower than expected acquisitions which result in lower offset to dilution from asset sales; 2) further degradation in investor sentiment results in a lingering greater than peers discount to NAV; and 4) Industry consolidation and REIT privatization. Government Properties (GOV, Underweight; PT $17): Our $17 price target is based on our Base Case view that Office cap rates could modestly expand for suburban and non- CBD assets in secondary markets as investors shift back to potentially stronger CBD markets. We expect the spread between GOV's implied cap rate and the Office sector to expand to 140bps from the current 100bps, but still below its 200bps five year average. Upside risks to our price target include: Attractively valued acquisitions could lift shares; and the government vertical remains one of the weakest in the office space but is still one that considered stable from a long-term cash flow perspective and could be seen as defensive in case of a sharp drop in fundamentals for commercial tenants. Downside risks include: Government budget tightening could lead to a reduction of space, pressuring occupancy; and rising interest rates and/or tighter financial conditions. Highwoods (HIW, Equal-Weight; PT $52): Our $52 price target for HIW is based on a target cap rate of 6.5%, which compares to the stock's current implied cap rate of 6.6% and assumes that the spread between HIW's implied cap rate and the Office sector is relatively unchanged, driven by investor preference for dividend yield and defensive traits. Risks to achieving our price target include: 1) a sharp decline in job growth and office fundamentals in HIW's core markets; 2) continued investor preference for dividend yields over fundamentals; and 3) tighter financing conditions and rising interest rates. Hudson Pacific Properties (HPP, Overweight; PT $39): Our $39 price target is based on our Base Case view that Office cap rates hold flat for San Francisco and the bay area, HPP's largest market, given a drop in private investment activity. We bake in the CISCO lease termination in 1Q18 with the space expected to stabilize again with new tenants starting in 4Q18. As a result, our $39 PT is derived using a tighter 5.2% cap rate which is 7

8 in between peers. Risks to our price target include: Further declines in investor sentiment with regards to leasing and job growth in San Francisco CBD; softness in tech sector given a high concentration of tech tenants; high property valuations and low cap rates raise the risk of overpaying for acquisitions; and rising interest rates and/or tighter financial conditions. Paramount Group (PGRE, Equal-weight; PT $17.50): Our $17.50 price target assumes a 5.1% target implied cap rate in 4Q17e which is mostly in-line with NYC office peers. Cautious leasing demand modestly lifts occupancy though with delays into 2H17, while cap rates for Class A trophy assets hold steady. Midtown leasing continues to moderate slightly with rent growth in the 2-3% range. PGRE backfills available space with mid-teen mark to market spreads only in 2H17. Free rent burn-off partially offsets the decline in cash NOI due to downtime. Risks to our price target include: PGRE s larger blocks of space can create lumpiness in occupancy; high mix of financial and legal services tenants which are still not the strongest verticals; fewer opportunities to create value through new acquisitions given historically low cap rates in PGRE's core markets; any drop off in private market bids that causes cap rates to expand; and rising interest rates and/or tighter financial conditions. SL Green (SLG, Overweight; PT $120): Our $120 price target is based on our Base Case view that the Office implied cap rates hold flat to compress slightly for high-quality class A NYC assets. We expect the SLG's implied cap rate to hold steady at 5.1% given SLG's forward leasing, below-peer expirations in e and improving NYC job growth. Risks to achieving price target include: Significant and unexpected drop in job growth and economic activity to lead to worsening sentiment for NYC office; fewer opportunities to create value through new acquisitions given historically low cap rates; any drop off in private market bids that causes cap rates to expand; and rising interest rates and/or tighter financial conditions. Vornado Realty (VNO, Equal-weight; PT $111): Our $111 price target is based on our Base Case view that the Office implied cap rates hold flat to compress slightly for highquality class A NYC assets. We expect VNO's implied cap rate to hold flat at 5.6% as we think the improving investor sentiment on its DC office spin-off is largely priced in but strong cash NOI growth from signed but uncommenced leased should be a positive. Risks to our price target include 1) Significant and unexpected drop in job growth and economic activity to lead to worsening sentiment for NYC office; 2) CEO transition brings execution risk; 3) Execution risk around Penn Plaza; 4) Fewer opportunities to create value through new acquisitions given historically low cap rates in NYC; 5) Any drop off in private market bids that causes cap rates to expand; 6) Rising interest rates and/or tighter financial conditions. Morgan Stanley is acting as financial advisor to Vornado Realty Trust ("Vornado") in relation to its plans to spin off its Washington, DC business, Vornado/Charles E. Smith, and its definitive agreement to merge it with the management business and certain select assets managed by The JBG Companies ( JBG ) and to form a combined company, JBG Smith Properties ( JBG Smith ), as announced on October 31, The transactions are subject to certain conditions, including the SEC declaring that JBG Smith s registration statement is effective, filing and approval of JBG Smith s listing application, receipt of regulatory approvals and third party consents by each of Vornado and JBG, and formal declaration of the distribution by Vornado s Board of Trustees. Vornado has agreed to pay fees to Morgan 8

9 Stanley for its financial services, which are contingent upon the consummation of the proposed transaction. Please refer to the notes at the end of the report. 9

10 Disclosure Section The information and opinions in Morgan Stanley Research were prepared by Morgan Stanley & Co. LLC, and/or Morgan Stanley C.T.V.M. S.A., and/or Morgan Stanley Mexico, Casa de Bolsa, S.A. de C.V., and/or Morgan Stanley Canada Limited. As used in this disclosure section, "Morgan Stanley" includes Morgan Stanley & Co. LLC, Morgan Stanley C.T.V.M. S.A., Morgan Stanley Mexico, Casa de Bolsa, S.A. de C.V., Morgan Stanley Canada Limited and their affiliates as necessary. For important disclosures, stock price charts and equity rating histories regarding companies that are the subject of this report, please see the Morgan Stanley Research Disclosure Website at or contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY, USA. For valuation methodology and risks associated with any recommendation, rating or price target referenced in this research report, please contact the Client Support Team as follows: US/Canada ; Hong Kong ; Latin America (U.S.); London +44 (0) ; Singapore ; Sydney +61 (0) ; Tokyo +81 (0) Alternatively you may contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY USA. Analyst Certification The following analysts hereby certify that their views about the companies and their securities discussed in this report are accurately expressed and that they have not received and will not receive direct or indirect compensation in exchange for expressing specific recommendations or views in this report: Vikram Malhotra; Sumit Sharma. Unless otherwise stated, the individuals listed on the cover page of this report are research analysts. Global Research Conflict Management Policy Morgan Stanley Research has been published in accordance with our conflict management policy, which is available at Important US Regulatory Disclosures on Subject Companies The following analyst or strategist (or a household member) owns securities (or related derivatives) in a company that he or she covers or recommends in Morgan Stanley Research: Vikram Malhotra - Macerich Co(common or preferred stock), Prologis, Inc.(common or preferred stock). As of February 28, 2017, Morgan Stanley beneficially owned 1% or more of a class of common equity securities of the following companies covered in Morgan Stanley Research: AvalonBay Communities Inc., Boston Properties, Inc., CBL & Associates Properties Inc, Columbia Property Trust Inc, Duke Realty Corp., Equity Residential, Essex Property Trust, Inc., Government Properties Income Trust, Healthcare Realty Trust Inc., Highwoods Properties, Hudson Pacific Properties, Kimco Realty Corp., Liberty Property Trust, Macerich Co, National Retail Properties Inc, Paramount Group Inc., Prologis, Inc., Public Storage, Senior Housing Properties Trust, Simon Property Group Inc, Spirit Realty Capital, STORE Capital Corp, Taubman Centers Inc, Vornado Realty Trust, Welltower Inc.. Within the last 12 months, Morgan Stanley managed or co-managed a public offering (or 144A offering) of securities of American Homes 4 Rent, AvalonBay Communities Inc., Boston Properties, Inc., Columbia Property Trust Inc, Digital Realty Trust Inc., Duke Realty Corp., Government Properties Income Trust, Highwoods Properties, Hudson Pacific Properties, Invitation Homes Inc, Kimco Realty Corp., National Retail Properties Inc, National Storage Affiliates Trust, Physicians Realty Trust, Public Storage, Realty Income Corp, Spirit Realty Capital, STORE Capital Corp, UDR, Inc.. Within the last 12 months, Morgan Stanley has received compensation for investment banking services from American Assets Trust Inc., American Homes 4 Rent, AvalonBay Communities Inc., Boston Properties, Inc., Columbia Property Trust Inc, Digital Realty Trust Inc., Duke Realty Corp., Government Properties Income Trust, HCP, Inc., Highwoods Properties, Hudson Pacific Properties, Kimco Realty Corp., National Retail Properties Inc, National Storage Affiliates Trust, Physicians Realty Trust, Public Storage, Realty Income Corp, Spirit Realty Capital, STORE Capital Corp, UDR, Inc., Vornado Realty Trust, Welltower Inc.. In the next 3 months, Morgan Stanley expects to receive or intends to seek compensation for investment banking services from American Assets Trust Inc., American Homes 4 Rent, AvalonBay Communities Inc., Boston Properties, Inc., CBL & Associates Properties Inc, Columbia Property Trust Inc, DDR Corp, Digital Realty Trust Inc., Duke Realty Corp., EastGroup Properties Inc., Equity Residential, Essex Property Trust, Inc., Extra Space Storage Inc., Government Properties Income Trust, HCP, Inc., Healthcare Realty Trust Inc., Healthcare Trust of America Inc, Highwoods Properties, Hudson Pacific Properties, Kimco Realty Corp., Liberty Property Trust, Macerich Co, Monogram Residential Trust, National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Physicians Realty Trust, Prologis, Inc., Public Storage, Realty Income Corp, Select Income REIT, Senior Housing Properties Trust, Simon Property Group Inc, SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, Taubman Centers Inc, UDR, Inc., Urban Edge Properties, Vornado Realty Trust, Welltower Inc.. Within the last 12 months, Morgan Stanley has received compensation for products and services other than investment banking services from AvalonBay Communities Inc., Boston Properties, Inc., Columbia Property Trust Inc, DDR Corp, Duke Realty Corp., Equity Residential, Highwoods Properties, Kimco Realty Corp., Macerich Co, National Retail Properties Inc, Prologis, Inc., Public Storage, Senior Housing Properties Trust, Simon Property Group Inc, SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, UDR, Inc., Vornado Realty Trust, Welltower Inc.. Within the last 12 months, Morgan Stanley has provided or is providing investment banking services to, or has an investment banking client relationship with, the following company: American Assets Trust Inc., American Homes 4 Rent, AvalonBay Communities Inc., Boston Properties, Inc., CBL & Associates Properties Inc, Columbia Property Trust Inc, DDR Corp, Digital Realty Trust Inc., Duke Realty Corp., EastGroup Properties Inc., Equity Residential, Essex Property Trust, Inc., Extra Space Storage Inc., Government Properties Income Trust, HCP, Inc., Healthcare Realty Trust Inc., Healthcare Trust of America Inc, Highwoods Properties, Hudson Pacific Properties, Invitation Homes Inc, Kimco Realty Corp., Liberty Property Trust, Macerich Co, Monogram Residential Trust, National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Physicians Realty Trust, Prologis, Inc., Public Storage, Realty Income Corp, Select Income REIT, Senior Housing Properties Trust, Simon Property Group Inc, SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, Taubman Centers Inc, UDR, Inc., Urban Edge Properties, Vornado Realty Trust, Welltower Inc.. Within the last 12 months, Morgan Stanley has either provided or is providing non-investment banking, securities-related services to and/or in the past has entered into an agreement to provide services or has a client relationship with the following company: AvalonBay Communities Inc., Boston Properties, Inc., CBL & Associates Properties Inc, Columbia Property Trust Inc, DDR Corp, Digital Realty Trust Inc., Duke Realty Corp., Equity Residential, Highwoods Properties, Kimco Realty Corp., Macerich Co, National Retail Properties Inc, Prologis, Inc., Public Storage, Select Income REIT, Senior Housing Properties Trust, Simon Property Group Inc, SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, Taubman Centers Inc, UDR, Inc., Vornado Realty Trust, Welltower Inc.. Morgan Stanley & Co. LLC makes a market in the securities of American Assets Trust Inc., American Homes 4 Rent, AvalonBay Communities Inc., Boston Properties, Inc., CBL & Associates Properties Inc, Columbia Property Trust Inc, DDR Corp, Digital Realty Trust Inc., Duke Realty Corp., EastGroup Properties Inc., Equity Residential, Essex Property Trust, Inc., Extra Space Storage Inc., Government Properties Income Trust, HCP, Inc., Healthcare Realty Trust Inc., Healthcare Trust of America Inc, Highwoods Properties, Hudson Pacific Properties, Kimco Realty Corp., Liberty Property Trust, Macerich Co, Monogram Residential Trust, National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Physicians Realty Trust, Prologis, Inc., Public Storage, Realty Income Corp, Select Income REIT, Senior Housing Properties Trust, Simon Property Group Inc, SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, Taubman Centers Inc, UDR, Inc., Urban Edge Properties, Vornado Realty Trust, Welltower Inc.. 10

11 The equity research analysts or strategists principally responsible for the preparation of Morgan Stanley Research have received compensation based upon various factors, including quality of research, investor client feedback, stock picking, competitive factors, firm revenues and overall investment banking revenues. Equity Research analysts' or strategists' compensation is not linked to investment banking or capital markets transactions performed by Morgan Stanley or the profitability or revenues of particular trading desks. Morgan Stanley and its affiliates do business that relates to companies/instruments covered in Morgan Stanley Research, including market making, providing liquidity, fund management, commercial banking, extension of credit, investment services and investment banking. Morgan Stanley sells to and buys from customers the securities/instruments of companies covered in Morgan Stanley Research on a principal basis. Morgan Stanley may have a position in the debt of the Company or instruments discussed in this report. Morgan Stanley trades or may trade as principal in the debt securities (or in related derivatives) that are the subject of the debt research report. Certain disclosures listed above are also for compliance with applicable regulations in non-us jurisdictions. STOCK RATINGS Morgan Stanley uses a relative rating system using terms such as Overweight, Equal-weight, Not-Rated or Underweight (see definitions below). Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold and sell. Investors should carefully read the definitions of all ratings used in Morgan Stanley Research. In addition, since Morgan Stanley Research contains more complete information concerning the analyst's views, investors should carefully read Morgan Stanley Research, in its entirety, and not infer the contents from the rating alone. In any case, ratings (or research) should not be used or relied upon as investment advice. An investor's decision to buy or sell a stock should depend on individual circumstances (such as the investor's existing holdings) and other considerations. Global Stock Ratings Distribution (as of February 28, 2017) The Stock Ratings described below apply to Morgan Stanley's Fundamental Equity Research and do not apply to Debt Research produced by the Firm. For disclosure purposes only (in accordance with NASD and NYSE requirements), we include the category headings of Buy, Hold, and Sell alongside our ratings of Overweight, Equal-weight, Not-Rated and Underweight. Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold, and sell but represent recommended relative weightings (see definitions below). To satisfy regulatory requirements, we correspond Overweight, our most positive stock rating, with a buy recommendation; we correspond Equal-weight and Not-Rated to hold and Underweight to sell recommendations, respectively. STOCK RATING CATEGORY COVERAGE UNIVERSE INVESTMENT BANKING CLIENTS (IBC) OTHER MATERIAL INVESTMENT SERVICES CLIENTS (MISC) COUNT % OF TOTAL COUNT % OF TOTAL IBC % OF RATING CATEGORY COUNT % OF TOTAL OTHER MISC Overweight/Buy % % 25% % Equal-weight/Hold % % 21% % Not-Rated/Hold 61 2% 8 1% 13% 8 1% Underweight/Sell % 76 11% 12% % TOTAL 3, Data include common stock and ADRs currently assigned ratings. Investment Banking Clients are companies from whom Morgan Stanley received investment banking compensation in the last 12 months. Analyst Stock Ratings Overweight (O). The stock's total return is expected to exceed the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Equal-weight (E). The stock's total return is expected to be in line with the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Not-Rated (NR). Currently the analyst does not have adequate conviction about the stock's total return relative to the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Underweight (U). The stock's total return is expected to be below the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Unless otherwise specified, the time frame for price targets included in Morgan Stanley Research is 12 to 18 months. Analyst Industry Views Attractive (A): The analyst expects the performance of his or her industry coverage universe over the next months to be attractive vs. the relevant broad market benchmark, as indicated below. In-Line (I): The analyst expects the performance of his or her industry coverage universe over the next months to be in line with the relevant broad market benchmark, as indicated below. Cautious (C): The analyst views the performance of his or her industry coverage universe over the next months with caution vs. the relevant broad market benchmark, as indicated below. Benchmarks for each region are as follows: North America - S&P 500; Latin America - relevant MSCI country index or MSCI Latin America Index; Europe - MSCI Europe; Japan - TOPIX; Asia - relevant MSCI country index or MSCI sub-regional index or MSCI AC Asia Pacific ex Japan Index. Important Disclosures for Morgan Stanley Smith Barney LLC Customers Important disclosures regarding the relationship between the companies that are the subject of Morgan Stanley Research and Morgan Stanley Smith Barney LLC or Morgan Stanley or any of their affiliates, are available on the Morgan Stanley Wealth Management disclosure website at For Morgan Stanley specific disclosures, you may refer to 11

12 Each Morgan Stanley Equity Research report is reviewed and approved on behalf of Morgan Stanley Smith Barney LLC. This review and approval is conducted by the same person who reviews the Equity Research report on behalf of Morgan Stanley. This could create a conflict of interest. Other Important Disclosures Morgan Stanley & Co. International PLC and its affiliates have a significant financial interest in the debt securities of AvalonBay Communities Inc., Boston Properties, Inc., DDR Corp, Extra Space Storage Inc., Government Properties Income Trust, HCP, Inc., Healthcare Realty Trust Inc., Highwoods Properties, Kimco Realty Corp., National Retail Properties Inc, Public Storage, Realty Income Corp, Select Income REIT, Senior Housing Properties Trust, SL Green Realty Corporation, STORE Capital Corp, UDR, Inc., Welltower Inc.. Morgan Stanley Research policy is to update research reports as and when the Research Analyst and Research Management deem appropriate, based on developments with the issuer, the sector, or the market that may have a material impact on the research views or opinions stated therein. In addition, certain Research publications are intended to be updated on a regular periodic basis (weekly/monthly/quarterly/annual) and will ordinarily be updated with that frequency, unless the Research Analyst and Research Management determine that a different publication schedule is appropriate based on current conditions. Morgan Stanley is not acting as a municipal advisor and the opinions or views contained herein are not intended to be, and do not constitute, advice within the meaning of Section 975 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Morgan Stanley produces an equity research product called a "Tactical Idea." Views contained in a "Tactical Idea" on a particular stock may be contrary to the recommendations or views expressed in research on the same stock. This may be the result of differing time horizons, methodologies, market events, or other factors. For all research available on a particular stock, please contact your sales representative or go to Matrix at Morgan Stanley Research is provided to our clients through our proprietary research portal on Matrix and also distributed electronically by Morgan Stanley to clients. Certain, but not all, Morgan Stanley Research products are also made available to clients through third-party vendors or redistributed to clients through alternate electronic means as a convenience. For access to all available Morgan Stanley Research, please contact your sales representative or go to Matrix at Any access and/or use of Morgan Stanley Research is subject to Morgan Stanley's Terms of Use ( By accessing and/or using Morgan Stanley Research, you are indicating that you have read and agree to be bound by our Terms of Use ( In addition you consent to Morgan Stanley processing your personal data and using cookies in accordance with our Privacy Policy and our Global Cookies Policy ( including for the purposes of setting your preferences and to collect readership data so that we can deliver better and more personalized service and products to you. To find out more information about how Morgan Stanley processes personal data, how we use cookies and how to reject cookies see our Privacy Policy and our Global Cookies Policy ( If you do not agree to our Terms of Use and/or if you do not wish to provide your consent to Morgan Stanley processing your personal data or using cookies please do not access our research. Morgan Stanley Research does not provide individually tailored investment advice. Morgan Stanley Research has been prepared without regard to the circumstances and objectives of those who receive it. Morgan Stanley recommends that investors independently evaluate particular investments and strategies, and encourages investors to seek the advice of a financial adviser. The appropriateness of an investment or strategy will depend on an investor's circumstances and objectives. The securities, instruments, or strategies discussed in Morgan Stanley Research may not be suitable for all investors, and certain investors may not be eligible to purchase or participate in some or all of them. Morgan Stanley Research is not an offer to buy or sell or the solicitation of an offer to buy or sell any security/instrument or to participate in any particular trading strategy. The value of and income from your investments may vary because of changes in interest rates, foreign exchange rates, default rates, prepayment rates, securities/instruments prices, market indexes, operational or financial conditions of companies or other factors. There may be time limitations on the exercise of options or other rights in securities/instruments transactions. Past performance is not necessarily a guide to future performance. Estimates of future performance are based on assumptions that may not be realized. If provided, and unless otherwise stated, the closing price on the cover page is that of the primary exchange for the subject company's securities/instruments. The fixed income research analysts, strategists or economists principally responsible for the preparation of Morgan Stanley Research have received compensation based upon various factors, including quality, accuracy and value of research, firm profitability or revenues (which include fixed income trading and capital markets profitability or revenues), client feedback and competitive factors. Fixed Income Research analysts', strategists' or economists' compensation is not linked to investment banking or capital markets transactions performed by Morgan Stanley or the profitability or revenues of particular trading desks. The "Important US Regulatory Disclosures on Subject Companies" section in Morgan Stanley Research lists all companies mentioned where Morgan Stanley owns 1% or more of a class of common equity securities of the companies. For all other companies mentioned in Morgan Stanley Research, Morgan Stanley may have an investment of less than 1% in securities/instruments or derivatives of securities/instruments of companies and may trade them in ways different from those discussed in Morgan Stanley Research. Employees of Morgan Stanley not involved in the preparation of Morgan Stanley Research may have investments in securities/instruments or derivatives of securities/instruments of companies mentioned and may trade them in ways different from those discussed in Morgan Stanley Research. Derivatives may be issued by Morgan Stanley or associated persons. With the exception of information regarding Morgan Stanley, Morgan Stanley Research is based on public information. Morgan Stanley makes every effort to use reliable, comprehensive information, but we make no representation that it is accurate or complete. We have no obligation to tell you when opinions or information in Morgan Stanley Research change apart from when we intend to discontinue equity research coverage of a subject company. Facts and views presented in Morgan Stanley Research have not been reviewed by, and may not reflect information known to, professionals in other Morgan Stanley business areas, including investment banking personnel. Morgan Stanley Research personnel may participate in company events such as site visits and are generally prohibited from accepting payment by the company of associated expenses unless pre-approved by authorized members of Research management. Morgan Stanley may make investment decisions that are inconsistent with the recommendations or views in this report. To our readers based in Taiwan or trading in Taiwan securities/instruments: Information on securities/instruments that trade in Taiwan is distributed by Morgan Stanley Taiwan Limited ("MSTL"). Such information is for your reference only. The reader should independently evaluate the investment risks and is solely responsible for their investment decisions. Morgan Stanley Research may not be distributed to the public media or quoted or used by the public media without the express written consent of Morgan Stanley. Any non-customer reader within the scope of Article 7-1 of the Taiwan Stock Exchange Recommendation Regulations accessing and/or receiving Morgan Stanley Research is not permitted to provide Morgan Stanley Research to any third party (including but not limited to related parties, affiliated companies and any other third parties) or engage in any activities regarding Morgan Stanley Research which may create or give the appearance of creating a conflict of interest. Information on securities/instruments that do not trade in Taiwan is for informational purposes only and is not to be construed as a recommendation or a solicitation to trade in such securities/instruments. MSTL may not execute transactions for clients in these securities/instruments. Morgan Stanley is not incorporated under PRC law and the research in relation to this report is conducted outside the PRC. Morgan Stanley Research does not constitute an offer to sell or the solicitation of an offer to buy any securities in the PRC. PRC investors shall have the relevant qualifications to invest in such securities and shall be responsible for obtaining all relevant approvals, licenses, verifications and/or registrations from the relevant governmental authorities themselves. Neither this report nor any part of it is intended as, or shall constitute, provision of any consultancy or advisory service of securities investment as defined under PRC law. Such information is provided for your reference only. Morgan Stanley Research is disseminated in Brazil by Morgan Stanley C.T.V.M. S.A.; in Mexico by Morgan Stanley México, Casa de Bolsa, S.A. de C.V which is regulated by Comision Nacional Bancaria y de Valores. Paseo de los Tamarindos 90, Torre 1, Col. Bosques de las Lomas Floor 29, Mexico 12

13 City; in Japan by Morgan Stanley MUFG Securities Co., Ltd. and, for Commodities related research reports only, Morgan Stanley Capital Group Japan Co., Ltd; in Hong Kong by Morgan Stanley Asia Limited (which accepts responsibility for its contents) and by Morgan Stanley Asia International Limited, Hong Kong Branch; in Singapore by Morgan Stanley Asia (Singapore) Pte. (Registration number Z) and/or Morgan Stanley Asia (Singapore) Securities Pte Ltd (Registration number H), regulated by the Monetary Authority of Singapore (which accepts legal responsibility for its contents and should be contacted with respect to any matters arising from, or in connection with, Morgan Stanley Research) and by Morgan Stanley Asia International Limited, Singapore Branch (Registration number T11FC0207F); in Australia to "wholesale clients" within the meaning of the Australian Corporations Act by Morgan Stanley Australia Limited A.B.N , holder of Australian financial services license No , which accepts responsibility for its contents; in Australia to "wholesale clients" and "retail clients" within the meaning of the Australian Corporations Act by Morgan Stanley Wealth Management Australia Pty Ltd (A.B.N , holder of Australian financial services license No , which accepts responsibility for its contents; in Korea by Morgan Stanley & Co International plc, Seoul Branch; in India by Morgan Stanley India Company Private Limited; in Indonesia by PT. Morgan Stanley Sekuritas Indonesia; in Canada by Morgan Stanley Canada Limited, which has approved of and takes responsibility for its contents in Canada; in Germany by Morgan Stanley Bank AG, Frankfurt am Main and Morgan Stanley Private Wealth Management Limited, Niederlassung Deutschland, regulated by Bundesanstalt fuer Finanzdienstleistungsaufsicht (BaFin); in Spain by Morgan Stanley, S.V., S.A., a Morgan Stanley group company, which is supervised by the Spanish Securities Markets Commission (CNMV) and states that Morgan Stanley Research has been written and distributed in accordance with the rules of conduct applicable to financial research as established under Spanish regulations; in the US by Morgan Stanley & Co. LLC, which accepts responsibility for its contents. Morgan Stanley & Co. International plc, authorized by the Prudential Regulatory Authority and regulated by the Financial Conduct Authority and the Prudential Regulatory Authority, disseminates in the UK research that it has prepared, and approves solely for the purposes of section 21 of the Financial Services and Markets Act 2000, research which has been prepared by any of its affiliates. RMB Morgan Stanley Proprietary Limited is a member of the JSE Limited and regulated by the Financial Services Board in South Africa. RMB Morgan Stanley Proprietary Limited is a joint venture owned equally by Morgan Stanley International Holdings Inc. and RMB Investment Advisory (Proprietary) Limited, which is wholly owned by FirstRand Limited. The information in Morgan Stanley Research is being disseminated by Morgan Stanley Saudi Arabia, regulated by the Capital Market Authority in the Kingdom of Saudi Arabia, and is directed at Sophisticated investors only. The information in Morgan Stanley Research is being communicated by Morgan Stanley & Co. International plc (DIFC Branch), regulated by the Dubai Financial Services Authority (the DFSA), and is directed at Professional Clients only, as defined by the DFSA. The financial products or financial services to which this research relates will only be made available to a customer who we are satisfied meets the regulatory criteria to be a Professional Client. The information in Morgan Stanley Research is being communicated by Morgan Stanley & Co. International plc (QFC Branch), regulated by the Qatar Financial Centre Regulatory Authority (the QFCRA), and is directed at business customers and market counterparties only and is not intended for Retail Customers as defined by the QFCRA. As required by the Capital Markets Board of Turkey, investment information, comments and recommendations stated here, are not within the scope of investment advisory activity. Investment advisory service is provided exclusively to persons based on their risk and income preferences by the authorized firms. Comments and recommendations stated here are general in nature. These opinions may not fit to your financial status, risk and return preferences. For this reason, to make an investment decision by relying solely to this information stated here may not bring about outcomes that fit your expectations. The trademarks and service marks contained in Morgan Stanley Research are the property of their respective owners. Third-party data providers make no warranties or representations relating to the accuracy, completeness, or timeliness of the data they provide and shall not have liability for any damages relating to such data. The Global Industry Classification Standard (GICS) was developed by and is the exclusive property of MSCI and S&P. Morgan Stanley Research, or any portion thereof may not be reprinted, sold or redistributed without the written consent of Morgan Stanley. 13